Religious Diversity and Innovation: Historical Evidence from Patenting Activity∗ Francesco Cinnirellay Jochen Strebz August 20, 2015 Abstract Religious norms related to specific denominations have been associated to economic outcomes. We argue that the religious composition of a population has also an impact on economic outcomes. In particular we argue that the presence of different cultures, skills, and abilities originating from different religions fosters innovation. Matching data on long-lasting patents with information on the religious composition of county population we find that religious diversity has an inverted-U shape relationship with patenting activity. The nonlinear effect is consistent with the notion of a trade- off between costs and benefits of diversity. Separate instrumental variable estimates based on past religious diversity and on eastward territorial annexations of Prussia support a causal interpretation of our results. We find that the effect of religious diversity on innovation is relevant for large firms’ patents and in counties with a comparatively higher level of development. Keywords: Diversity, Fractionalization, Innovation, Patenting Activity JEL classification: O15, O31, R11, Z12, N33 DRAFT PREPARED FOR THE 2015 ANNUAL MEETING OF THE ECONOMIC HISTORY ASSOCIATION DO NOT CITE OR CIRCULATE WITHOUT PERMISSION ∗We thank Philipp Ager, Davide Cantoni, Matteo Cervellati, Oliver Falck, Rapha¨elFranck, Oded Galor, Johannes Koenen, Lars Lønstrup, Stelios Michalopoulos, Alessandro Nuvolari, Omer¨ Ozak,¨ Giovanni Prarolo, Paul Sharp, Uwe Sunde, Fabian Waldinger, Dinand Webbink, David Weil, Ludger Woessmann, and seminar participants at the First German Economic History Congress, European Economic Association (EEA), Tinbergen Institute in Rotterdam, University of Southern Denmark, University of Munich, University of Bologna, Sant'Anna School of Advanced Studies in Pisa, University of Mannheim, and the Ifo Institute in Munich for helpful comments. yCorresponding author: Ifo Institute, CESifo, CEPR, and CAGE. Email: [email protected] zUniversity of Mannheim. Email: [email protected] 1 1 Introduction There is a large and expanding literature which investigates the impact of religious norms on economic outcomes. Already at the beginning of the twentieth century Max Weber (1905) argued that hard work and thrift facilitated the rise of capitalism in Western Europe. Since then, numerous studies have attempted to identify religious traits which are directly or indirectly conducive to economic growth (Andersen et al., 2013; Becker and Woessmann, 2009, 2008; Botticini and Eckstein, 2005, 2007; Ak¸comaket al., 2015; Cantoni, 2014; Barro and McCleary, 2006, 2003; Hornung, 2014; Michalopoulos et al., 2014). In this paper we argue that the religious composition of the population has also an impact on economic outcomes. We argue that diversity in religious denominations brings about variety in cultures, skills, and abilities which positively affect the generation and adoption of new ideas (Alesina and La Ferrara, 2005). We test this hypothesis studying the impact of religious diversity on innovation during the second industrial revolution in nineteenth-century Prussia. Prussia provides an almost unique context of religious heterogeneity in a period of intense innovation such as the second industrial revolution. We study the effect of religious diversity on innovation merging county-level data on the religious composition of the population in 1871 with individual level data on long- lasting patents for the period 1877-1890. In this period Prussia was at the technological frontier in the chemical, electrical, and machine building sector (Pierenkemper and Tilly, 2004). Advancements in these sectors were based on the availability and use of scientific knowledge. Progress in scientific analysis lowered the effectiveness of secrecy and thus increased inventors' dependency on patents (Moser, 2013). Furthermore, exploring the relationship between religious diversity and innovation for a single country significantly mitigates the problem of heterogeneous institutions which characterizes cross-country analysis. The availability of unique data on religious denomination and long-lasting patents at the micro-regional level allows us also to shed some light on the mechanisms that operates behind the relationship between religious diversity and innovation. Economic theory and empirical evidence suggest that there are also economic costs associated with cultural diversity. Coordination failure, mistrust, and heterogeneous preferences over the provision of public goods may lead to adverse economic outcomes (Alesina and La Ferrara, 2005; Alesina et al., 1999; Easterly and Levine, 1997). Therefore the existence of a trade-off between costs and benefits of diversity suggests that the relationship between religious diversity and innovation might be nonlinear. Indeed, our baseline estimates show that religious diversity has an inverted-U shape relationship with long-lasting patents. This relationship is robust to the introduction of a rich set of confounding factors such as the literacy rate, population size, urbanization, 2 the share of Protestants, and the share of people employed in sectors related to natural endowments and characterized by a high propensity to innovate and patent. Counties with a high economic potential are generally more open to different cultures and might therefore be destination of migratory flows generating a problem of reverse causality. There could also be omitted variables affecting both the religious composition of the population and innovation. To address the issue of causality we propose two independent instrumental variable strategies. In the first case we exploit information on the religious composition of the population in 1816, a pre-industrial period. The logic behind this instrumentation is that the religious fragmentation observed in 1816 is the result of a complex set of historical processes, started with the Protestant Reformation in 1517, which are in large part exogenous to the innovative activity of the second industrial revolution. By including a rich set of contemporary controls in 1816 and accounting for some of the determinants of the adoption of Protestantism in 1517, we provide significant support for the exclusion restriction. Instrumental variable estimates support the finding of a nonlinear effect of religious diversity on long-lasting patents. The second identification strategy exploits the eastward annexations by the Kingdom of Prussia since its foundation in 1701 which successively included a large number of people of slavic ethnic origin of Catholic and Jewish religion. In particular we predict religious diversity in 1871 with distance to the eastern border, allowing the relationship to vary across annexations. The logic behind this instrumentation is that distance to the eastern border by annexation has an effect on innovation only through religious diversity. Because of the nature of the instrument and in order to have enough variation in religious diversity, this identification strategy focuses only on the counties east of the river Elbe. This constitutes also an advantage as we discard from the analysis the western regions of Prussia with superior natural endowments, larger cities, and more liberal economic institutions which make difficult the identification of the causal effect. Instrumental variable estimates for the counties east of the river Elbe strongly sup- port the finding of a nonlinear effect of religious diversity on innovation. We show that income differences and linguistic fractionalization do not explain our main finding. Geo- graphic controls such as latitude, longitude, precipitation, and temperature ensure that our instrument does not capture geographic features that can directly impact innovation. Previous literature has suggested that diversity is more beneficial at higher levels of development (Alesina and La Ferrara, 2005). The idea is that the benefits of skill complementarities are realized when the production process is diversified, therefore at higher levels of development. Using the information on the name of the patent holder and the legal form of the company (e.g. AG, GmbH ) we can distinguish between large firms’ patents and independent patents. Consistent with the hypothesis that diversity is more beneficial at higher levels of development, we find that the effect of religious 3 diversity on innovation is significant only for large-firms patents. Similarly, the effect is significant for counties with a literacy rate and industrialization rate above the median. The paper is structured as follows: Section2 discusses the related literature; Section 3 describes the data and introduces our proxy for innovation; Section4 presents our baseline estimates; Section5 addresses the issue of causality and introduces our two instrumentations; Section6 discusses potential channels through which religious diversity might affect innovation; Section7 concludes. 2 Related literature [Incomplete] The literature on the economic benefits of diversity has mainly focused on the effect of fractionalization on productivity and income. Alesina et al.(2013) use an index of diversity based on people's birthplace and find that it is positively related to economic development. It is important to note that their index of birthplace diversity is almost orthogonal to standard measures of ethnic and linguistic diversity. Peri(2012) finds pos- itive effects of diversity on productivity of US states. He argues that the positive effect